CFA Practice Question

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CFA Practice Question

If the desired reserve is 10%, and the Fed buys $10,000 worth of bonds from the public sector, what is the change in the money supply, provided that people don't keep any cash?

A. $90,000; increase
B. $100,000; increase
C. $90,000; decrease
Correct Answer: B

The multiplier is 10, so the monetary expansion is $100,000. Note that we do not have to subtract the original $10,000 because this is new money created by the Fed.

User Contributed Comments 7

User Comment
danlan Try to understand why we do not need to substract 10000.
mtcfa Because the money is being injected by the fed; it was not part of the money supply before the fed purchased the bonds.
MattyBo Fed buys bonds so currency going from Fed to public which increases money supply. Fed sells bonds would have the reverse impact.
cleopatraliao tricky one:)
something Now it makes more sense, that why 5000 was deducted as currency and not reserve... New money doesn't reduce currency, it's new...So total expansion is 100,000...Good question.
something Duh..That 5000 is a reference to the previous question of money supply.
reccy Since fed buys bonds, money "goes out" from fed, "goes in" to public. The one with money input determines the reserve amount ie the public here. Since public doesn't keep cash/ save, no reserve amount needs to be taken out.

If it was a "money in" to fed with sales of bonds, must take 10% out simce fed's desired reserve is 10%
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